Key investment opportunities and risks for 2011 – 2012

Dollar Fall

Before we dive in to my views on where to place your bets for the next couple of years, it is important to understand the context for my views.  I see the world economies as extremely unbalanced and while we have seen stability in the stock markets for nearly two years, at any moment volatility can explode.  The big problem is that economic cycles of boom and bust are inevitable.  However in recent decades politicians and bureaucrats have been trying to eliminate the bust cycle.  Each time we enter a recession, before we have completed the full course of bitter medicine to cleanse our system of the excesses, governments rescue us with free money and other stimulus.  We enjoy a short term high, but push the problem of rehab to our future generations.

With this context here are my quick takes on what lies ahead for a mix of sectors, currencies, geographies, and industries:

image Dollar: this is the pivotal trend to track which will influence the direction of many of the other markets.  The US government is debasing the currency by running the dollar printing presses non-stop.  If this was any other currency that is not the world’s reserve currency it would already have crashed.  Watch for the rest of the world to lose patience, and to cause a currency crisis.
image Euro: not a good alternative to the dollar because of the risks from the debt crisis on the periphery.
image Bonds: there is a huge overhang of debt in the world (especially government debt) which will continually need to be rolled over.  Once inflation takes a hold it will wipe out any returns from bonds with their fixed payments, especially long duration bonds.  I am watching out for opportunities to short the long bonds.
image Emerging markets: this was the best place to play the recovery from the 2009 market bottom.  Long term it is still one of the most promising sectors, but short term it is priced for perfection.  Escalating food prices and general inflation are a big risk, and any slow down in demand from the developed world will be critical.
image Gold and Silver: will benefit from money printing in the rest of the world.  These are also assets that are not collateral against debt, and will not be pressured in a debt squeeze.  This is a very volatile sector, and there are sure to be some big downdrafts ahead.  Currently I am most overweight in these metals, especially silver mining stocks.  In the last several weeks I have added to my positions very substantially to be ready for a breakout.
image Commodity metals: will always have long run demand in their favor while emerging countries industrialize.  However they are too economically sensitive for my liking in the short term.
image Agriculture: would be my favorite investment choice, if it were not so difficult to find a vehicle to capture the upside.  There are several ETF’s (DBA, JJG) which have done well recently.  However I prefer to avoid commodity ETFs because of bad experiences in the past.  Fertilizer companies are also an option but they have already had a huge run-up.  Best would be to buy a farm, but I am not one for muddy boots.
image Real Estate: values are kept inflated by debt which is temporarily almost free of interest.  As soon as realistic rates are payable, the cost of debt will put a huge pressure on values.
image S&P 500: the US stock markets can continue to be levitated by QE2.  When the stimulus is removed the market will be very exposed to a fall.  I expect this to happen between now and September this year.  But until they fall stocks, could continue to rise to the level before the 2008 crisis.
image Retail: mass consumers will continue to be squeezed between unemployment, negative home equity, inflation and taxes.  There is simply no justification for stock prices to be higher than before the 2008 crisis.  I am gradually increasing shorts.
image High Tech: covering software, hardware, chips and Internet.  Often there are great opportunities for high returns if you pick the right technology wave.  However valuations during these waves are sky high.  I think the risk/reward is generally better for entrepreneurial activities than for public companies.
image Pharmaceuticals: everyone knows that most of their patents are expiring in the next few years.  However not everyone has priced in growth drivers from emerging markets and an aging population, nor scope for cutting costs in large Sales and R&D budgets.  With a high dividend, this is a good option for some stability in a portfolio.  I have a medium position which has substantially underperformed the market so far.
image Biotech: a very volatile sector, but nothing can deliver such high returns if you get it right.  I trade a limited amount actively with small positions based on technical charting.
image Energy: scarcity due to peak oil will drive ever higher prices.  The crazy irony is that people complain about high oil prices, but in fact they are not high enough to provide enough ROI for oil alternatives.  My take on the subsectors:

  • Oil: prices should rise faster than inflation.  Oil stocks provide great dividends and the downside should be limited.  However growth options are limited for the oil majors.  I am overweight oil stocks.
  • Natural Gas: currently in huge oversupply, however this is a relatively clean energy source and I have been buying now, but it will require patience to see returns.
  • Clean energy: still too dependent on subsidies. Once oil stays well above $100, then we may finally see this industry take off.
  • Uranium: in the medium term nuclear energy is the only realistic alternative to oil.  It delivers good ROI and can be scaled up in the required quantities.  The cost of uranium is a small part of the total costs of a nuclear plant, and there is huge scope for price increases as demand rises.  I am very bullish on uranium mining stocks, but in the short term they have probably gone up too quickly, so I will wait before adding to positions.

I’d love to hear your thoughts and any agreements or disagreements with this list.  In the following posts I will drill down into more detail on many of these topics individually.  Let me know your particular interests.

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